Archive for the 'Economics' Tag

Listening to the always superb Deputy Secretary of Defense Bob Work Tuesday AM at the opening of West2015 should be on everyone’s short list of things you need to watch. As when he was the Under Secretary of the Navy, at such events he gives those in the audience a good outline of what he is working on, what concerns him, and what the priorities are for the administration and nation he serves.

How you look at the challenges he describes depends on the time-frame you are thinking about. Much of it covers the short term, to say 2016, and also to the medium term, up to 2020. Sure, there are some technology big pixel items that may mature that he discusses at 2020 and beyond, but much of what he shared was inside the 2020s.

He started out with a snapshot of the President’s defense budget proposals in the world of sequestration – a world he describes as one defined as lower budgets (than desired) with higher demands; a $534 baseline budget plus $51 OCO budget. that gets you a bit over a 7% increase above the present budget.

Yes, that is an increase, but as defined by a strategy driven budget, that he envisions, it isn’t enough to do what national security requirements need – especially if sequestration continues forward.

As he discussed what happened during 2014, one almost felt as if the Pentagon wished it could stand athwart history and yell, “STOP!” as they did their best to see what they wanted to do and how to get there.

There was much discussion of shifting money in a resource constrained environment on the fly – adjusting and rebuilding as they went along reacting to developing events. He reminded us that are still working under the March 2014 strategy even though since then, Work stated that they have three “surprises” that caused them in September to do a baseline review. The Big-3 surprises were; 1. Russian aggression in Ukraine; 2. Islamic State’s rise in Iraq and Syria in conjunction with the military collapse of the Iraqi army; 3. Ebola.

In spite off all that, they decided that their strategy was not broken, and the outlines of the QDR remain intact.

The five priorities from the Pentagon and the administration remain; the pivot to the Pacific, stability in Europe, counter terrorism, strengthening partnerships with allied nations (nations, he notes, are from a capability and capacity point of view tapped out), & modernization of the force. That is the short term. A short term challenge where the Administration has sent to Congress a proposal $150 billion above sequestration and will challenge the other branch of government to respond accordingly in the direction they propose.

The near term crisis is getting rid of the pressure of sequestration, as that keeps us from growing the force. From the perspective of the Pentagon, anything below will cause problems and will make things unmanageable. Can something be either unmanageable or unsustainable? Perhaps … we’ll get to that.

Moving to the medium term, they are already working on POM-17, trying to find the right balance where we have to accept a defined shortage of ISR & missile defense, while keepin a viable forward presence to deter possible enemies and support our allies. While all that is going on – somehow we have to find a way to structure things so we have a chance to reset our military to win one conflict while denying success to an enemy in a second.

Sound hard? It is … and there is no clear and simple answer … for the short term.

Trying to get to the medium term is not going to be easy either. At the end of past wars – and we have been at war for 13-years – there has always been a planned 2-3 yr reset to replace worn out equipment, relieve personnel stress, and retrain for all services to be ready to respond and be ready for full spectrum conflict.

It isn’t easy to do this reset because of our present OPTEMPO. The world won’t wait.

Events are coming up from the Islamic State and elsewhere that are causing us to try to do a reset on the run. As a result, though our deployed forces are full up, our surge force is not in good shape and cannot start to fully do the reset they need. What he described falls in perfectly with an action back home we call, “shooting up the horse” or in more familiar terms, a readiness death spiral.

Work believes that given what they see now and using the post Vietnam War reset as a rough baseline, it will take to 2020 for all services but the USAF, who will need to get to 2023, to reset to get back to full spectrum readiness.

A lot of positive things will have to flip our way to make that unfold as outlined. Not impossible to get everything set right for 2020, the end of the next President’s first administration, but not simple.

The argument can be made that the struggle in the short and medium term up to 2020 is actually the easy problem. The real challenge, and one where it is difficult to see how you fix it, comes once you start the third decade of this century. That is where one should start to try to propose a way forward now, we are only five years away.

This is the point where those who have been following my writing for the last half decade know where we are going; The Terrible 20s – and there was nothing in Work’s opening that addressed how our Navy is going to deal with this challenge that is only now creeping in to the general conscienceless. All the points the Deputy SECDEF brought up are true and important and rightfully the things he needs to focus on – they are the crocodiles closest to his canoe, but the real fiscal challenge and budget squeeze are coming – he knows this – but that crocodile is out of sight right now.

It is no secret that a mix of factors are going to make the 2020s a decade of incredible challenge for the US military in general, and the Navy in particular. You can follow the link above for details on The Terrible 20s, but there are two major causes in descending order of importance; SSBN recapitalization and the expected roosting of the debt interest chickens.

In the latest edition of USNI‘s Proceedings, Eric Labs’s article, Finding Funding for a New Boomer has a graph that tells the story well of what is coming up. We’ve been down the SSBN road before.

Over the entire Trident era, spending on ballistic-missile submarine construction consumed 14 percent of the Navy’s shipbuilding budget. However, it is the beginning of that period, 1974–78, that seems particularly relevant as we look at the Ohio replacement program in the coming decades. Average shipbuilding budgets in that period were over 50 percent higher than average shipbuilding budgets over the 1968–73 period. The Ohio class represented about a quarter of the Navy’s shipbuilding budget, receiving a substantial fraction of those higher budgets.

Yet the Navy paid a price from other parts of its budget to buy those additional ships and submarines. Its average topline budget remained flat. Compared to 1968–73, it was only 1 percent higher over the 1974–78 period. To pay for new ships, including Ohio -class ballistic-missile submarines, the Navy sacrificed force structure. Its Fleet fell by over 40 percent, while both Navy and Marine Corps end-strength declined by 20 percent. The Vietnam War had come to an end, so it is perhaps not surprising to see those declines, but clearly in this early period of the Trident era the Navy was not receiving more money overall, although money was found within its budget to pay for new ships, including SSBNs.

Read the full article to understand how the Navy reacted to these previous periods, but the underlying fiscal facts remain; that money will need to come from somewhere, or we will simply have to do Strategic Deterrence on the cheap.

If you are waiting for a magic bag of money to show up next decade, there is something that will manifest itself that our nation has not faced, as a percentage of GDP, since the end of WWII. This time, we are not a nation with a big demobilization freeing up assets. We are not a nation untouched, astride a world in ashes. We do not have a clear path to growth in a wide open nation with economic potential of a new age. This time it is very different.

Currently, the government’s interest costs are around $200 billion a year, a sum that’s low due to the era of low interest rates. Forecasters at the White House and Congressional Budget Office believe interest rates will gradually rise, and when that happens, the interest costs of the U.S. government are set to soar, from just over $200 billion to nearly $800 billion a year by decade’s end.

By 2021, the government will be spending more on interest than on all national defense. according to White House forecasts. And one year later, interest costs will exceed nondefense discretionary spending–essentially every other domestic and international government program funded annually through congressional appropriations. (The largest part of the budget is, and will remain, the mandatory spending programs of Social Security, Medicare and Medicaid. Mandatory spending is over $2 trillion and is set to double to $4 trillion by 2025.)

Here’s the graph for you visual types.This begs the question; if we have a challenge now to meet our national security requirements, then what are we going to do in The Terrible 20s?

We have a zero option for SSBN if we wanted (not recommended) – but what we don’t have a zero option on is the servicing the national debt.

How do you manage these converging train wrecks? If we think that the pressures of sequester are almost unmanageable, then what is the plan for both of these challenges? Don’t forget, the Baby Boom generation that generated all that taxable income post-WWII will all be at retirement age by the 2020s – note the voting pressure that will come with it.

I am confident of the next couple of POM periods, but … soon.

“I’ve said many times that I believe the single, biggest threat to our national security is our debt, so I also believe we have every responsibility to help eliminate that threat,” he said. “We must, and will, do our part.”
– Admiral Mike Mullen, USN (Ret)

The now quaint Fleet number of 313 of just a few years ago was never taken seriously by anyone with a basic understanding of economics even before the latest budget issues, and the interesting accounting of the Fleet of 300 that we see today is also a non-starter.

Why make such a negative statement? Simple – budgetary gravity.

Back in 2008, European military budgets were sad in any event as a % of GDP. As demographics join with the inevitable default of the Western welfare state takes place in front of us, after a few years – we have this via our friends from DefenseNews.

Make no mistake – we have not even started to align our budget with reality, so what is the benchmark that we should plan for? Don’t turn away – defense is always the low hanging fruit.

Well – you can break these reduction in to three batches.
1. Doable at 5% or less: Norway, Sweden, or Germany.
1.a. Odds: minimal.
1.b. Reason for odds: We won’t be this lucky. Norway has averaged a budget surplus for over a dozen years; different planet. Sweden and Germany already made structural changes to their government systems – Sweden in the 1990s and Germany a little more than a decade ago. As a result – the budgetary stress on the defense budget is small to non-existent from the 2008 baseline. If we act soon to address larger budgetary issues though, odds of this taking place increase.

2. Painful but workable at 5% to 20%: yes, in order to protect the economic foundation that national survival requires – a 20% cut is workable. Netherlands, UK, Poland & France.
2.a. Odds: most likely.
2.b. Reason for odds: unlike Europe, we don’t have anyone we trust that we can point to and say, “Oh, they’ll take care of the international order.” These are serious nations with a serious dedication to military requirements – but they are doing what they feel them must – as shall we. Unlike those nations though, we still have a lot of inertia to maintain a global reach; close to 5% than 20% if we are lucky. More than 20% in the face of a climbing China is just hard to fathom for the USA unless ….

3. Budgetary POMageddon at 20% to 50%: if you wait too long to act on your structural budgetary challenges – the more difficult the fix. You will take on more national security risk in order to try to keep domestic tranquility. Italy, Spain, Greece, & Ireland.
3.a. Odds: small, but not minimal.
3.b. Reason for odds: Without a two-party consensus to make such a huge cut in defense, it is hard to see larger than 20% in the next half decade outside of a complete economic meltdown. With each year we delay having a budget (Senate over 1,130 days without a budget plan) and/or a view to a plan to fix present trends, the more the odds for this option grow.

So, what could POMageddon mean to the Navy? Well – let’s go to Group 3 above – Italy. Again from our friends at DefenseNews;

Italy is considering selling or donating up to one-third of its naval fleet in a bid to earn quick cash and slash maintenance costs.

The Italian Navy would be the first off the mark wit a plan to sell or donate up to 28 vessels over the next five or six years … (out of) 82 ships and six submarines. …

So, 28 out of 88 ~ 32%.

Let’s run with the fuzzy 300 ships. A 32% reduction would be a cut of 96 ships to a fleet of 204.

What was my worse case scenario a couple of years ago, 240? That would be a 20% reduction in five years. All of a sudden, doesn’t look all that out of control … if you consider what has happened to Europe.

Let’s be optimistic and cut that in half to a 10% reduction. 270 ships in 5-years. Let’s model and plan for that and consign 300 ships with 313 ships as they hang out with all those TQL books in the storage room.

In the last couple of decades, China’s “Diplomatic” and “Military” areas are a solid green with up-arrows. Though I would give “Information” a yellow with an up arrow, I will give a nod to those who would give the Communists a green.

Economic? That is a lot trickier than people think. I lean towards the demographic-wonk mantra, “China will get old before they get rich,” – but if you want a good look at another view on China’s “Economic” that you won’t get from Thomas Friedman, a nice primmer would be Reihan Salam’s latest at NR.

Without a sound economy … the dragon may not be as large or as scary, as some think – but it may be more dangerous for other reasons.

… across a wide range of economic, technological, and military indicators, the United States is actually, in the words of political scientist Michael Beckley, “wealthier, more innovative, and more militarily powerful compared to China than it was in 1991.” As Beckley explains in a recent article in International Security, China’s growth in per capita income, value added in high technology, and military spending is impressive primarily because China is starting from such a low base. That the United States has continued to grow across all of these dimensions is making it exceedingly difficult for China to catch up. Beckley thus concludes that China is “rising in place.” That is, while China is improving its economic and military position in absolute terms, it is stagnating relative to America, even in an era of sluggish U.S. growth.
…
While we can expect China at some point to have an economy somewhat larger than that of the United States — after all, China has four times our population — the country is plagued by pervasive corruption and bad debts that are already undermining its growth prospects.
…
China’s population is aging rapidly, and soon the country will have to carry the weight of tens and eventually hundreds of millions of retirees. … China’s growth is already slowing as a result. Since 2001, China has grown at an annual rate of 10.1 percent. This year, however, Chinese GDP is expected to grow at 7.5 percent. Further, the official statistics almost certainly conceal the extent of the decline.
…
The real threat from China is not that it will grow so economically strong that it will bestride the world like a colossus. Rather, it is that it will become so weak and vulnerable as to collapse, or to lash out at its neighbors.

When you build the next military – do you ponder how to deal with a near competitor in 25-years, or how to handle the violent collapse of a nation 4-times your size in 25-years? How would they look different, and how do you hedge one outcome vs the other?